According to Morningstar, Vanguard Intermediate-Term Tax-Exempt Bond Fund, which holds municipal bonds from around the nation, yields 4.04 percent, as of this writing. Vanguard California Intermediate-Term Tax-Exempt Bond Fund, which holds municipal bonds issued in California, yields 3.98 percent. Assuming those yields stay constant, a California resident with $20,000 to invest would receive $808 a year in interest from the national fund and $796 from the California fund.
With the California fund, that $796 would be an after tax return because the investor would owe neither federal nor California income tax. In the national fund, this California resident probably would owe 9.3 percent of that $808 in state income tax so the net would be $733. Although the math will differ from investor to investor, a California resident might be ahead by about $63 a year, on a $20,000 investment, in return for taking the risk that California’s economy will sink its municipal bonds.
Similar calculations can be made by residents in other states with single-state municipal bond funds. Going by the numbers, there is little extra return for taking the added risk of single-state funds.
The situation might be different, though, for investors holding individual bonds. As long as you buy high-quality bonds that are not likely to default, you can hold your munis until maturity and collect interest that is totally tax-exempt.
